Choose any color you want

There are many reasons why you might not want to be George Papandreou, Antonis Samaras or Giorgos Karatzaferis, but this weekend in particular the leaders of three parties in Greece’s coalition government find themselves in the most unenviable of positions.

They are due to hold talks with Prime Minister Lucas Papademos on the measures that Greece will have to implement to receive further loans from the eurozone and the International Monetary Fund. But the leaders of PASOK, New Democracy and the Popular Orthodox Rally (LAOS) are walking into a lose-lose situation.

If they agree, then further austerity measures will have to be inflicted on the wheezing Greek economy. If they don’t agree, then Greece’s lenders won’t stump up any more money and, come March 20, Athens won’t have the cash to pay holders of two maturing bonds worth 14.5 billion euros. The three leaders will be signing off on Greece’s disorderly bankruptcy.

Greece’s politicians have backed themselves and the country into this corner. Their consistent failure to recognize the implications of the crisis and to develop a coherent strategy to tackle it has removed almost all of Greece’s options from the table. Their inability to agree on and conduct necessary reforms has exacerbated the recession and prevented them from having any bargaining chips in negotiations with the European Commission, European Central Bank and IMF.

Their failure aside, though, Papandreou, Samaras and Karatzaferis are being put in an impossible position by the troika. The insistence of Greece’s lenders that private sector salaries, including the minimum wage, should be slashed is baffling in an economic sense and explosive in a political sense.

If reports are correct, the troika is pushing for a 25 percent reduction in labor costs. This would essentially entail the scrapping of the 13th and 14th monthly wages and a reduction of about 10 percent in social security contributions. The troika has failed to make any case for the cuts other than it would increase Greek competitiveness. This rather nebulous concept has been rejected by labor unions, employers and politicians. Labor Minister Giorgos Koutroumanis presented a report this week that indicated labor costs in Greece had dropped by about 15 percent over the last two years and would drop another 8 percent this year without any interference from the government.

It has never been clear at which point the troika believes Greece would become competitive. Nor has there been any significant attempt to weave the wage issue into the dozens of other factors that affect competitiveness, such as taxation, bureaucracy, corruption, infrastructure, etc.

In talks with Papademos last weekend, Samaras argued that it would lead to the economy shrinking by a further 3 percent of GDP. In Greece’s frail state, this would be the equivalent of unplugging the life-support machine. Yet the troika is insisting that the political leaders put aside their opinions and agree to what is being put before them. As Henry Ford said, they can choose the car in any color they want as long as it’s black.

This take-it-or-leave-it strategy in such tense circumstances is folly. Firstly, it’s a replay of the mistakes that were made when Greece signed up to the first EU-IMF bailout. The particularities of the Greek economy were not taken fully into account and the particular weaknesses afflicting Greece, such as its woeful public administration, were not addressed.

Instead, Greece ended up with an ill-devised austerity program that drilled a great big hole in the bottom of the barrel and sent the Greek economy plunging through it. As Peter Bofinger, a member of the German government’s Council of Independent Economic Advisers, said on Friday, the program was “wrongly designed from the beginning” and has sent the Greek economy into a dangerous spiral.

Rather than repeat the same mistake, perhaps all sides should step back and think of the implications of their decisions. It would be encouraging, for instance, if someone with authority said: “Fiscal consolidation must proceed but at an appropriate pace. Decreasing debt is a marathon, not a sprint. Going too fast will kill growth, and further derail the recovery.”

In fact, someone did say that recently. It was IMF chief economist Olivier Blanchard. So, it’s perplexing that the Washington-based gund’s man in Athens, Poul Thomsen, should be one of those advocating drastic wage cuts that would knock the economy even further from the rails of recovery.

The other reason the approach to the new bailout is fraught with danger is that it puts the last semblance of democracy on the chopping block.

Greece tossed away its sovereignty by failing to control its public finances and create a productive economy and fair state. However, to prevent a country and its political system from having any input or say in the terms of an agreement is an affront to the ethos of the European Union and the principles it is meant to stand for.

Some will say that if Greece wants more money it simply has to sign up to the terms of the loan. But the situation is not as simple as that. This is not money that is being invested in Greece so it can grow its economy to pay off its debt. It’s money that Greece is borrowing in order to pay off existing debt, much of which is held by European banks. From the first bailout, only about 20 percent of the money Greece received went towards covering its own spending needs, the rest was for bond repayment.

The Greek bailouts are much more of a quid pro quo arrangement than European and Greek officials like to admit. Germany — or at least the German Finance Ministry — let the cat out of the bag last weekend with its leaked document proposing that Greece change its constitution to ensure the loans it receives be used for repaying debt first and that only any remaining money be spent on domestic needs.

“That is absolutely astonishing,” writes Tim Worstall, a fellow at the Adam Smith Institute in London, on the Forbes website. “These are harsher terms than the British Empire ever imposed, even backed up by gunboats and the Royal Navy.

“There really isn’t any way that a democratic government is going to sign up to that: or that any demos would allow their government to do so.”

However, it’s clear that even if it’s not forced to pass legislation in Parliament, every euro Greece will be lent will be spoken for, including the 30 billion for the recapitalization of Greek banks. This bailout – which will place 130 billion euros of debt on Greece just after it concludes the haircut with bondholders to save about 100 billion euros – would have served little purpose if European banks were fully protected from a Greek bankruptcy and the knock-on effect this might have in the eurozone.

Despite the long-term refinancing operation (LTRO) the ECB launched in December, as a share of equity, European banks are still highly exposed to the effects of a Greek default. “Belgian banks especially are in the red, with total periphery exposure being valued at just over 2 times equity,” Rebecca Wilder writes on the EconoMonitor website. “This means that if the Belgian banks were jointly forced to write down all periphery holdings to 49 percent of what they are holding on their books, their equity would be completely wiped out and technically insolvent.”

Since the only money from the second bailout that will be invested in Greece is the 30 billion euros for bank recapitalization, the country’s political leaders would have every right to question whether committing to new package would be wise. It might just be possible that saying: “Thanks, but no thanks” is the best option.

It’s a choice that would set Greece on the path to default, which will bring turmoil for its economy and financial system as the country would be cut off from markets and the banks would not have access to funding. The one thing that Greece has in its favor, though, is that it has cut its primary budget deficit (which doesn’t include interest repayments) by 18 billion euros over the last two years. It fell from 10.6 percent of GDP in 2009 to 2.4 percent last year. This means Greece is edging toward becoming fiscally self-sufficient, a target it should achieve later this year.

If Greece can raise on its own all the money it needs to cover civil servant’s wages, pensions, unemployment benefits and public spending then it may occur to the party leaders that it’s not in Greek interests to keep borrowing just to pay off existing debt. Athens might discover that hardball is a game for two players, not just the troika.

To adopt such a strategy, however, the country would need politicians with clear minds, good ideas and the wherewithal to see such a tough task through. They would have to be willing to stick with the structural reforms that have already been set out and rebuild the economy based on a completely different concept, one that focuses amongst others on production, innovation, investment, exports, tourism and renewable energy sources. The problem is that the politicians who would make this decision and the voters who would support this transformation have so far shown themselves to be lacking in the commitment and awareness required. An option that could free the country of its fiscal straitjacket might soon turn suicidal. Greece, it seems, can choose any course it wants — as long as it’s bleak.

9 responses to “Choose any color you want”

I would suggest that the strategy of “allowing default to happen because, despite all efforts on the part of Greece, it could not be avoided” (as opposed to threatening with default) is the only way to go. It could work very well for Greece, indeed, provided that Greece has arranged for adequate “collateral measures” and has in place an economic plan where to go from here.

Let’s remember why a default is such a feared word for a country: it totally destroys the country’s creditworthiness and blocks its access to capital markets, sometimes for years. Greece has already paid that price! In the case of Greece, a default would have one great benefit: that unfortunate idea of a haircut would not take effect (the price of a haircut would be paid for by generations to come!).

Where I disagree is that “Athens should play hardball”, i. e. provoke default. Since default happens in and by itself, there is no need to provoke it and the price for provoking default would be high. For once, Greece would be smart to assume the role of the victim…

The most critical aspect is that the moment default looks unavoidable, all bank deposits must be frozen (with only minimal withdrawals for personal needs). That needs to be managed with great care to avoid popular unrest (once people understand that they don’t lose their deposits or interest thereon, things quiet down).

The advantage of a deposit freeze is that one finally gets everyone’s attention! At that point, the crisis has arrived even in the minds of those who have so far not been affected by it. That is the point where the government either has a plan and commitment for Greece’s future, or not.

If not, Greece’s slide along the path towards disaster will be accelerated by a default.

Thanks for another constructive comment Klaus. The bit that worries me is that you need to have a watertight plan if you’re going to let default happen. With these leaders, these MPs and these parties, I can’t see any way we can. Clearly, there are exceptions but I can’t say that have any confidence.

Of course your politicians won’t be able to come up with such a watertight plan, but they don’t have to! All they have to do is to commission people who can come up with such a plan to do it.

I see that the usual consulting suspects (McKinsey, BCG) have offices in Athens. I am sure that there are good Greek consulting firms. I have read somewhere that there is an impressive Greek think tank. There are very impressive university professors. There are very impressive businessmen. Count yourselves as the media in. And with Lazard and Cleary Gottlieb already on board as financial and legal advisers, Greece also has the sharks who know how to avoid pitfalls.

All Mr. Papademos would have to do is to commission the responsible Ministry to put together a task force and swear them to secrecy. I bet you that within a couple of weeks they would come up with a preliminary draft for discussion.

And if Mr. Papademos does not have the management experience of how to set such a process into action and monitor it, perhaps someone should tutor him. Is there anything which prevents, say, you from requesting an appointment with him to make such suggestions? Or if you can’t get an appointment for yourself, work through someone who can?

Klaus – clearly there are very capable people in Greece. I have very little faith in the politicians handing over control to them. Bankruptcy and possible return to drachma might just be a shot in the arm for the crumbling system. Let’s see.

Don’t blame the Germans for not paying for further excess Greek consumption.

Greece should just impose a 3-year standstill on debt, with a clear implication that it would be restructured afterwards. Of course that will guarantee a primary fiscal surplus in 2013, either by plan or outcome. It would be better if they had a plan so that fiscal priorities could be addressed and uncertainty could be minimised, but one way or another, Greece will maintain a fiscal surplus in 2013, so the key is to focus on aggressively boosting tax receipts, and ridding excess expenditure. Of course, the economy needs to be restructured to provide productive employment. Perhaps a strategy of aggressive import substitution?

I am not sure which fragrant herbs Mr Plessaras has been exposed to. This process has everything to do with Greece and its failure to take reforms forward. The country’s EU partners would like nothing more than to have thrown a bailout package (admittedly a little less than needed) to a government in Athens that would put it to good use instead of funding shortfalls caused by an uncontrolled and unmanageable public sector. And 20 or so months later we are still on the edge…how can blame be shifted?

It’s unrelated to this article but I always chuckle when I read about the almighty Germany and how it needs to be reigned in (I am not German!!!). Well, the German state is not almighty at all when it needs to borrow money to pay interest and the German economy can employ its people only because it runs such a huge current account surplus. If Germany had only a “normal” current account surplus, unemployment would skyrocket.

But there is one thing the Eurozone can learn from Germany. Germany’s 16 federal states are in a transfer union. Only 3 states (Bavaria, Baden-Wuerttemberg and Hesse) pay into the union and finance the other 13 states. Bavarians have alreay once sued against the transfer union law and got a few hundred million Euro improvement. They plan to sue again and by 2020, the present law expires. Watch what happens then. And all that within one and the same country/nation where people have the same ancestry and speak the same language!

After unification, the West decided to drown the East with money instead of allowing it to become competitive (particularly the unions in the West had no particular interest in seeing a new stiff competitor in the East). The net result is that today, over 20 years later, the West still has to transfer close to 100 BN EUR annually to the East because the East never managed (or was never allowed to) build up a self-sustaining economy. Every so often Westerners have made comments that “we should build the Wall again”.

The Eurozone (and Greece) should learn from this that to base a future on transfer payments is not much of a sustainable future; not for the former East Germany and neither for Greece.

Troika’s approach resembles the one of a businessman that want’s to avoid the sale when there is an adesirable customer. The businessman put on the table a price so big that the customer rejects. In Greece’s case though either YES or NO leads to the same result, a YES doesn t quarantee a solution but rather delays the default and NO just puts a date on it.